From new SECURE Act guidance to the invalidation of a forum selection clause by a California court, we have seen some significant developments in estate planning and business law over the past month. To ensure that you stay abreast of these legal changes, we have highlighted some noteworthy developments and analyzed how they may impact your estate planning and business law practice.

IRS Issues Guidance Clarifying Certain Provisions of the SECURE Act

I.R.S. Notice 2020-68, 2020-38 I.R.B. 1 (Sept. 2, 2020) (relating to I.R.C. Sections 45T, 72, 219, 401, 403, 410, 411)

On September 2, 2020, the Internal Revenue Service (IRS) issued Notice 2020-68, which provides guidance in the form of questions and answers regarding several provisions in the Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act). Notice 2020-68 addresses the following SECURE Act topics:

Business Credit

The SECURE Act provides eligible employers that establish an eligible automatic contribution arrangement under a qualified employer plan with a business credit equal to $500 per year, applicable to tax years beginning after December 31, 2019. Notice 2020-68 explains that an eligible employer (small businesses with up to 100 employees paid at least $5,000 a year) is only entitled to receive a single credit during a three-year period and must have the same arrangement and same plan for years two and three. In addition, it clarifies that the credit applies separately to each eligible employer that participates in a multiple employer plan.

IRA Contribution Age Limit

The SECURE Act eliminated the prohibition on individual retirement account (IRA) contributions by individuals after they reach age 70½ that existed under prior law. Notice 2020-68 clarifies that financial institutions are not required to accept contributions after age 70½. However, if a financial institution chooses to accept such contributions, it must amend its IRA contract and distribute the amendment and a disclosure statement to participants.

Notice 2020-68 also clarifies that individuals are not permitted to use contributions made after age 70½ to their IRA to offset the amount of their required minimum distribution (RMD) for the same year. It also provides an example of how making an IRA contribution after age 70½ can cause a qualified charitable distribution to become partially or wholly taxable.

401(k) Participation by Part-Time Employees

Prior to the SECURE Act, employers maintaining a 401(k) plan were not required to offer it to part-time employees who worked less than 1000 hours per year. To be eligible, an employee must be 21 years old and have completed at least one year of service (worked at least 1000 hours in a 12-month period). In contrast to prior law, the SECURE Act requires employers with 401(k) plans to also offer them to part-time employees who work at least 500 hours in three consecutive twelve-month periods. To be eligible, employees under this track must have reached age 21 by the close of the three consecutive twelve-month periods.

These amendments are applicable to years beginning after December 31, 2020, but the twelve-month period beginning before January 1, 2021, is generally not taken into account. However, the Notice clarifies that all years of service must be taken into account under the special vesting rules in Internal Revenue Code (I.R.C.) Section 401(k)(15)(B)(iii).

Qualified Birth or Adoption Distributions

Under the Internal Revenue Code, a 10 percent additional tax is generally imposed on an early distribution from a qualified retirement plan. There are exceptions to this rule, and the SECURE Act added a new exception for any qualified birth or adoption distribution up to $5,000 from an applicable retirement plan made during the one-year period beginning on the date the child is born or the adoption is finalized.

Notice 2020-68 provides extensive guidance relevant to qualified birth or adoption distributions, including the definition of a qualified birth or adoption, additional requirements for a distribution to be a qualified birth or adoption distribution, the types of plans eligible to permit such a distribution, and who is an eligible adoptee. The Notice further clarifies that each parent may receive a qualified birth or adoption distribution of up to $5,000 with respect to the same child or eligible adoptee, and that an individual is permitted to receive such distributions with respect to multiple births of children or adoptions of multiples such as twins or triplets if the distributions are made during the one-year period following the date on which the children are born or the legal adoption for the eligible adoptees is finalized. An individual may recontribute a qualified birth or adoption distribution to an applicable eligible retirement plan. Although eligible retirement plans are not required to permit distributions for qualified birth or adoption distributions, individuals are permitted to take the distribution and treat it as a qualified birth or adoption distribution on their federal tax return.

Difficulty of Care Payments

Designated nondeductible contributions may be made on behalf of an individual to an IRA pursuant to I.R.C. Section 408(o). Prior to the SECURE Act, employees who received a difficulty of care payment—a type of qualified foster care payment that is excludable from gross income—from an employer could not make contributions to or receive allocations from an employer’s plan based on it. The SECURE Act amended Section 408(o) to allow a participant to make contributions to, or receive allocations under, the plan that are based on the participant’s receipt of difficulty of care payments, even if the participant has no other compensation. Notice 2020-68 clarifies that difficulty of care payments received by an employee from someone other than an employer are not includable in the definition of compensation under the employer’s plan. The employer’s plan must be amended to include difficulty of care payments in its definition of compensation only if the employer begins to make such payments.

Takeaways: The changes mentioned here are only a brief summary of the guidance provided by Notice 2020-68 for implementing the SECURE Act, and a thorough reading is necessary for attorneys advising clients about retirement planning. The Department of the Treasury and the IRS are likely to issue further guidance, including regulations, regarding provisions of the SECURE Act in the future.

No Gain Recognized by Donor of Stock to Charity That Submitted It for Redemption by Closely Held Corporation

Dickinson v. Comm'r, T.C.M. (RIA) 2020-128 (Sept. 3, 2020)

In a decision issued September 3, 2020, the Tax Court decided in favor of the taxpayers (collectively referred to as Dickinson) after the IRS filed a notice of deficiency following Dickinson’s charitable donation of the stock of a closely held corporation.

The donor was the chief financial officer and a shareholder of Geosyntec Consultants, Inc. (GCI), a closely held corporation. GCI’s board of directors authorized its shareholders to donate shares of GCI to a 501(c)(3) organization, Fidelity Investment Charitable Gift Fund, which had a donor-advised fund program requiring it to immediately liquidate the donated stock and promptly tender the donated stock to the issuer for cash. As authorized by GCI’s board, Dickinson, who remained an employee of GCI, donated appreciated shares to Fidelity, signing a letter of understanding to Fidelity stating that the stock transferred to it was “exclusively owned and controlled by Fidelity.” Fidelity redeemed the donated shares for cash shortly after they were donated. Dickinson claimed a charitable contribution deduction for each year that shares were donated to Fidelity.

In its notice of deficiency, the IRS asserted that each donation of GCI shares should be treated, in substance, as a redemption of the shares for cash by Dickinson, followed by a donation of the cash to Fidelity. The Tax Court held, based on its decision in Humacid Co. v. Commissioner, 42 T.C. 894 (1964), that a transaction would be respected if a donor gave the property away absolutely, parting with title to it, before the property gives rise to income by way of a sale. Based on Dickinson’s evidence that the donation was an absolute gift, and the IRS’s failure to demonstrate a genuine controversy regarding whether Dickinson had failed to transfer all his rights in the donated stock, the court found that the first prong in Humacid was satisfied. Because Fidelity’s redemption was not a “fait accompli” at the time of the gift, the court found that the second prong of Humacid had also been satisfied. Thus, Dickinson had made an absolute gift of the GCI shares before the stock gave rise to income from a sale. Accordingly, the court granted summary judgment in his favor.

Takeaways: The second prong of Humacid implements the assignment of income doctrine—whereby a taxpayer who has earned income cannot escape taxation by assigning his right to receive payment—by ensuring that if stock is about to be acquired by the issuing corporation through a redemption, the shareholder cannot avoid tax on the transaction by simply donating the stock before receiving the proceeds. The assignment of income doctrine would only apply if the redemption was “practically certain” to occur at the time of the donation and would have occurred regardless of whether the gift was made. In the present case, the court respected the form of the transaction because Dickinson did not avoid receipt of the redemption proceeds by donating the GCI shares. Practitioners should keep this distinction in mind when advising clients regarding charitable donations of corporate shares.

IRS Soliciting Comments on Form 709

Proposed Collection; Comment Request for United States Gift (and Generation-Skipping Transfer) Tax Return, 85 Fed. Reg. 55937 (Sept. 10, 2020)

The IRS is soliciting comments concerning the gift and generation-skipping transfer tax return, Form 709. All comments must be in writing and received on or before November 9, 2020. As part of its effort to reduce paperwork and respondent burden, the IRS invites the general public and other federal agencies to comment on information collection, as required by the Paperwork Reduction Act of 1995.

Forum Selection Clause Preventing Plaintiff from Jury Trial Held Unenforceable in California

West v. Access Control Related Enter., LLC, BC642062 (Cal. Sup. Ct. 2020)

William West and Joseph Grillo co-founded Access Control Related Enterprises, LLC (ACRE) in 2012, and West served as ACRE’s chief financial officer and chief operating officer. In 2013, West, ACRE, and several other parties entered into multiple agreements, including a securityholder’s agreement. Following a dispute in 2015, ACRE terminated West’s employment for cause. West filed suit against ACRE in 2016 in the Los Angeles Superior Court alleging wrongful termination, conversion, and breach of fiduciary duty, and seeking declaratory relief.

The court granted ACRE’s motion to stay the action based on a forum selection clause in the securityholder’s agreement indicating that disputes would be resolved in the U.S. District Court for the State of Delaware or the Delaware Court of Chancery. West then filed suit, first in the United States District Court for the District of Delaware and next in the Superior Court of the State of Delaware, but ultimately the action was transferred upon the defendants’ motion to the Delaware Court of Chancery. West had demanded a jury trial, but the superior court found that granting the motion to transfer mooted ACRE’s motion to strike West’s demand for a jury trial because the court of chancery does not conduct jury trials. On June 30, 2020, West moved to stay the proceedings in the Delaware action.

The Los Angeles Superior Court lifted the stay on July 29, 2020, holding that because the court of chancery does not conduct jury trials, the enforcement of the forum selection clause would result in an impermissible predispute waiver of West’s unwaivable right to a jury trial created by the California Constitution and statutory law. Because the predispute forum selection clause would effectively and impermissibly be used as a predispute waiver of a jury trial, ACRE had not met its burden to show that the forum selection clause would not violate California public policy by diminishing West’s substantive rights afforded under California law.

Takeaways: Although forum selection clauses are often included as boilerplate provisions in contracts, they can nonetheless have a substantial impact if litigation arises. West could still be appealed, and parties to contracts with California residents or entities containing Delaware forum selection clauses designating the court of chancery should monitor this case for further developments. In the meantime, West should be kept in mind in future contractual negotiations with California residents or businesses.

Department of Labor Proposes Rule Clarifying How to Determine Independent Contractor Status under the Fair Labor Standards Act

Department of Labor, Independent Contractor Status Under the Fair Labor Standards Act, 85 Fed. Reg. 60600 (Sept. 25, 2020) (to be codified at 29 C.F.R. pts. 780, 788, and 795)

On September 22, 2020, the Department of Labor (DOL) announced a new proposed rule aimed at helping employers determine whether a worker should be classified as an independent contractor or an employee under the Fair Labor Standards Act (FLSA), as the FLSA does not define the term “independent contractor.” Covered employers are required to pay nonexempt employees the federal minimum wage and overtime pay and must keep certain records regarding their employees. However, these requirements are not applicable to independent contractors. According to the DOL’s Wage and Hour Division Administrator Cheryl Stanton, the proposed rule is aimed at “simplify[ing] the compliance landscape for businesses and [improving] conditions for workers,” by reducing worker misclassification and litigation, while increasing efficiency, job satisfaction, and flexibility.

• The proposed rule adopts general interpretations that the DOL and the courts have frequently applied in practice, establishing an economic reality test to determine whether a worker is an employee or independent contractor under the FLSA. The proposed rule indicates that, as a matter of economic reality, independent contractors are in business for themselves as opposed to being economically dependent on an employer for work as is the case for employees.
• The proposed rule sharpens the inquiry into economic dependence through the application of five distinct factors: The nature and degree of the worker’s control over the work and the worker’s opportunity for profit and loss should be given greater weight, while the amount of skill required for the work, the degree of permanence of the working relationship between the worker and the potential employer, and whether the work is part of an integrated unit of production may nonetheless serve as additional guideposts in the analysis.
• The proposed rule states that actual practice is more relevant to and given greater weight in the determination of a worker’s status as an independent contractor or employee than what may be contractually or theoretically possible.

Takeaways: With the continued growth of the gig economy and innovative work arrangements, the risk of misclassification and litigation under the FLSA has increased. If adopted, the proposed rule would become the “sole and authoritative” interpretation of independent contractor status under the FLSA, providing more certainty for companies and enabling the development of “innovative business models and working relationships” beneficial to both workers and businesses. Nevertheless, attorneys and their clients should be mindful of stricter state wage laws, e.g., Assembly Bill 5, a recent California law that created a strict ABC test and a presumption that workers are employees unless they satisfy certain conditions. Assembly Bill 5 was modified by Assembly Bill 2257, which was signed into law on September 4, 2020, and provides exemptions for certain industries from the ABC test.

Comments regarding the DOL’s proposed rule must be submitted by October 26, 2020.